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The DOL also has cited, without explanation, to “valuation bias” as a ground for
covering ESOP valuation and fairness opinion providers under the proposed rule. See
Preamble to Proposed Rule, 75 Fed. Reg 65273. In its initial comments, the group
pointed out that the Department does not have a study on the economic effect of this
“valuation bias” on prices or returns similar to the Government Accountability Office
study that found lower investment returns for plans that use investment consultants with
financial incentives to recommend particular investment products. We assumed,
therefore, that the Department’s position would be that the proposed rule would have the
effect of skewing a valuation or fairness opinion determination in favor of the ESOP,
thereby conferring benefits for the participants in those plans.

However, the testimony at the Hearing was that valuation providers currently
attempt to calculate the "correct" range of value and that ESOP trustees, as ERISA
fiduciaries, have a duty to analyze the valuation provider's work pursuant to the prudent
person standard and to reach a result that is unbiased. That would still be the case if the
valuation provider were a fiduciary along with the ESOP trustee. Indeed, Department
officials commented throughout the Hearing that imposing fiduciary status would mean
no change to the current standards applicable to valuation providers under the Internal
Revenue Code. March 2TM Tr. at 30, 107, 136. In particular, Department officials
continually asserted that valuation providers could — and should — continue to perform
valuations independently and impartially under the proposed rule. Thus, a provider
would not be required, in the words of one Department official, to put his or her “finger
on the scale” in valuing employer stock. March 2" Tr, at 32. Even if it were true that an
ESOP’s valuation provider determines the price at which a security trades in any
transaction — a proposition that our group and every other witness characterized as a
mischaracterization of the transaction process° — Department officials stated
unequivocally that the proposed regulation is not intended to, and would not, benefit
ESOP participants economically by moving transaction prices in their favor. March and
Tr. 129-131.

The only evidence in the record that arguably would support a conclusion that the
proposed regulation would confer any financial benefit is the possibility of additional
monetary recoveries for ESOPs and their participants through enforcement actions. But

° In many transactions, there is already a proposed price and the ESOP trustee asks the
valuation provider to opine whether that price which the parties are already considering is
within the range of value. There was no evidence at the Hearing or in the record that the
valuation provider ever has the authority to dictate price to either party.

GROOM Law GROUP, CHARTERED

1701 Pennsylvania Ave., N.W. ° Washington, D.C. 20006-5811
202-857-0620 * Fax: 202-659-4503 * www.groom.com.


GRGD i AW i Dé YEE
Employee Benefits Security Administration

Office of Regulations and Interpretation
Page 4

counsel to represent them in ESOP transactions, and likely some valuations as well. 4
March 2TM Tr, at 11, 118. The group believes that retaining ERISA counsel would add
$30,000 to $100,000 to the overall cost of each ESOP purchase or sale transaction. This
estimate is based on what an ESOP trustee’s ERISA counsel generally charges in a
transaction, and the cost of legal counsel retained by valuation or fairness opinion
providers in non-ERISA transactions. One ESOP trade organization estimates that, on
average, approximately 1,000 ESOP transactions occur annually. Using that figure, the
projected added cost for ESOP transactions would range from $30,000,000 to
$100,000,000 annually. In addition, assuming the average cost of retaining an attorney to
review a valuation to be, on average, approximately $5,000, the total cost for the 11,500
existing ESOP companies exceeds $50 million a year.

¢ The public record shows no economic benefit to ESOPs that would be
derived from the proposed regulation.

At the Hearing, Department officials suggested that conferring fiduciary status on
an ESOP valuation or fairness opinion provider would correct the “common problem” of
substandard valuation and fairness opinion provider work. See March 2TM Tr, at 121-127;
see also Preamble to Proposed Rule, 75 Fed. Reg. 65265. The Department officials
remarked in this regard that being a fiduciary under ERISA means being “careful.”
While no one claims that there has never been “schlocky” ESOP-related valuation work,
see March 2TM Tr, at 115, there is no evidence that the proposed regulation would change
professional behavior by turning careless work into careful work. Nor is there any
evidence that, even if true, being careful would result in identifiable economic benefits
for ESOP participants. Compared to careful work, careless valuations or fairness
opinions are as likely to lead to higher as to lower purchase and sale prices, or be
incorrect in one party’s favor or another.

* On March 30, 2011, the Department issued a “fact sheet” concerning the proposed
regulation. In the overview section, the Department did not indicate that the preparation
of a private company ESOP annual valuation used for participant accounting and
redemptions would be considered “investment advice” under the proposed rule. We
would ask the Department to clarify whether the preparation of such annual valuations
still would fall under the proposed amendment to the definition of investment advice.

5 We note that the primary mission of the Valuation Advisory Committee to The ESOP
Association over the past fifteen years has been to improve the quality of valuations
prepared by ESOP valuation providers.

‘Groom Law Group, CHARTERED

1701 Pennsylvania Ave., N.W. * Washington, D.C. 20006-5811
202-857-0620 * Fax: 202-659-4503 * www.groom.com


GROOM |

Employee Benefits airs Administration
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even that assertion is questionable. While the Department did express a desire to be able
to institute enforcement actions against valuation and fairness opinion providers, its
interest seems to be based on its view that the Internal Revenue Service, remedies
available under state law, and the profession’s self-regulatory bodies and procedures, are
not doing an effective job of advancing and maintaining an acceptable level of
competence within the profession. Still, the Department’s stated desire to regulate
valuation and fairness opinion providers through expensive litigation would not, by its
own admission, confer economic benefits in the form of material monetary recoveries.
The Department has not offered an estimate as to the likely monetary recoveries if the
proposed regulation were finalized, or the substantial costs the Department and ultimately
the taxpayers would incur from an attempt to create this new enforcement program.
Indeed, the Department remarked at the Hearing that historically, the agency rarely has
brought ESOP lawsuits, and only has done so in extremely abusive situations. March am
Tr. at 34. Accordingly, we are not aware of Department estimates of monetary recoveries
as result of the proposed rule, and any such estimates would have to account for the
Department’s enforcement practices in the past.

* * * * * * * * * * * *

We appreciate the opportunity to submit comments, provide testimony, and submit
these additional comments. We are confident that the Department will base its decision
on the public record and that it will conclude that the proposed regulation cannot be
justified under the requirements of administrative law.

Sincerely,

Groom Law Group, Chartered

By:
Edward A. Scallet

By: "Lan LE Mec

Lars C. Golumbic ty

Groom Law GrouP, CHARTERED
1701 Pennsylvania Ave., N.W. * Washington, D.C. 20006-5811
202-857-0620 * Fax; 202-659-4503 * www.groom.com


GRGDM

Edward A. Scallet
Lars C. Golumbic
(202) 857-0620
‘eas@groom.com
Iceg@groom.com

April 12, 2011

By Electronic Mail (e-ORI@dol.gov)
Office of Regulations and Interpretations

Employee Benefits Security Administration
Attn: Definition of Fiduciary Proposed Rule
Room N-5655

U.S. Department of Labor

200 Constitution Avenue, NW

Washington, DC 20210

Re: RIN 1210-AB32, Definition of Fiduciary Proposed Regulation

Dear Sir or Madam:

The undersigned represent a group of providers of valuations and fairness opinions
who submitted initial comments and whose representative, Jeffrey Tarbell, testified at the
March 2TM Hearing (“Hearing”).! Having read the comments and listened to the Hearing
testimony, the group remains deeply concerned about the unintended consequences of the
proposed regulation on their professional responsibilities and on the millions of active
and retired employees who rely on an ESOP for their retirement security.” In particular,
the views expressed in the comments and testimony unanimously point to the same
conclusion -- the proposed rule is diametrically at odds with the impartiality requirement
under longstanding professional standards of valuation practice as well as the Internal
Revenue Code. The witness testimony and other remarks made at the Hearing did
nothing but reinforce the group’s view that the proposed rule and its obligation to be
impartial are irreconcilable.

| The firms include: Chartwell Capital Solutions, Columbia Financial Advisors, Inc.,
ComStock Advisors, Duff & Phelps, LLC, Houlihan Lokey, Prairie Capital Advisors,
Inc., Stout Risius Ross, and Willamette Management Associates.

2 In this respect, a number of comments, including ones issued by the American Society
of Appraisers (“ASA”) and the American Institute for Certified Public Accountants
(“AICPA”), offered practical solutions to many the problems asserted by the Department
in its proposed rule.

GROOM Law GROUP, CHARTERED
1701 Pennsylvania Ave., N.W. * Washington, D.C. 20006-5811
202-857-0620 » Fax: 202-659-4503 * www.groom.com


GRGDM |W

Employee Benefits Security ‘Aditnisiretiom
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These additional comments are directed at a principal focus of the Hearing, and
one that is critical to the task of the Department of Labor (“DOL” or “Department”)
under the law to show that the economic benefits of the proposed regulation exceed the
projected costs. It is clear from the Hearing testimony and the remarks of Department
officials that the benefits of the regulation do not outweigh the costs, particularly as it
would affect valuation services related to ESOPs. In fact, as detailed below, the public
record supports the opposite conclusion -- that the costs substantially outweigh the
benefits of the proposed regulation.

e The record shows that the costs of the proposed rule on ESOP-related
services would be substantial.

Hearing witnesses persuasively testified that promulgation of the proposed
regulation will require providers of ESOP valuations and fairness opinions to account for
increased litigation risk. The main concern is not that a provider would be unable to
defend its work in a proceeding, but that, as a result of litigation or other proceedings, the
provider would be faced with significant defense costs just to establish its compliance
with professional standards. Mr. Tarbell and Robert Reilly, on behalf of the AICPA,
gave examples during the Hearing of firms which spent hundreds of thousands of dollars
in defense costs in cases where the firms were eventually dismissed as defendants.

March 2TM Tr. at 64, 119-120. For many firms, the cost to defend one case would likely
exceed their annual profits. March 2TM Tr. at 1 19-120.> Such defense costs are almost
never paid in full by fiduciary liability insurance, which normally includes a high
deductible to be satisfied before coverage begins. In addition, internal costs driven by the
regulation, such as additional records maintenance, and the development of policies and
procedures, also will be incurred.

Valuation and fairness opinion providers will need to consider this new risk in
pricing their services. Therefore, one can expect that these providers will charge extra
compensation on each assignment, which they hope will be sufficient to cover a
particular transaction that results in litigation costs. These increased fees would not only

3 A 2003 fiduciary liability survey report issued by Towers Perrin, Tillinghast,
underscores the significant costs involved in defending a fiduciary claim. The survey
found that the average cost of defending a fiduciary claim to be roughly $365,000, and
factoring in amounts paid as a result of settlement or court adjudication, the average cost
rose to $994,000. Given that legal defense costs continue to rise, there is little doubt that
these figures are significantly understated.

Groom Law Group, CHARTERED

1701 Pennsylvania Ave., N.W. * Washington, D.C, 20006-5811
202-857-0620 » Fax: 202-659-4503 * www.groom.com


GRGOM ©

Employee Benefits Security Administration
Office of Regulations and Interpretation
Page 3

impose direct, immediate, and incremental costs on ESOP plan sponsors, but those costs
would likely increase over time as the market for valuation and fairness opinion services
became less competitive. In this respect, witnesses testified that many firms will have a
disincentive to continue providing ESOP valuations and fairness opinions in light of the
increased costs and the difficulty of raising prices to compensate for such risk. March am
Tr. at 54-56, 95, 106-107. One witness cited the example of the ESOP trustee market,
where significant institutions left in reaction to increased litigation costs and negative
publicity. March 2TM Ty, at 10, 54-55. In short, the evidence in the record is that
valuation and fairness opinion providers would be driven out of the ESOP market,
thereby reducing the supply of willing firms and inevitably increasing the cost of services
further. March 2" Tr, at 27-28, 95, 106-107.

While insurance has been used by plan fiduciaries to mitigate their ERISA
litigation risk, the record is clear that no such product currently exists for ESOP valuation
and fairness opinion providers. March 2TM Tr. at 117-118. Based on the stringent cost-
benefit analysis that is now required by the executive branch to ensure responsible rule-
making, Exec. Order 13563, 76 Fed. Reg. 3821 (Jan. 18, 2011), reliable data must be
obtained to quantify the identified insurance cost. And yet, there is no evidence in the
record as to the projected cost of that insurance, a fact that the Department acknowledged
during the Hearing. March 2TM Tr. at 117.

The group has attempted to estimate the cost of a valuation-specific insurance
product by considering the cost of fiduciary insurance coverage for ESOP trustees, which
is typically based on assets under management. The group understands from
conversations with industry representatives and other information in the public domain
that premiums range between $100 to $200 per $1 million of assets under management.
See Fiduciary Insurance — Understanding Your Exposure, at 12, available at
http://www.naplia.com. The ESOP trade associations project that the total assets owned
by ESOPs are roughly $900 billion. See National Center for Employee Ownership
statistics, available at http://www.nceo.org/main/articl/php/id/21; The ESOP Association
statistics, available at http://www.esopassociation.org/media/media_statistics.asp. Using
that ratio, the aggregate fiduciary insurance costs for valuation and fairness opinion
providers would range from $90 million to $180 million annually.

In addition to the cost of insurance, retention and regulatory compliance, witnesses
at the Hearing testified that providers would also bear the cost of hiring separate ERISA

‘GRooM Law Group, CHARTERED
1701 Pennsylvania Ave., N.W. * Washington, D.C. 20006-5811
202-857-0620 * Fax: 202-659-4503 * www.groom.com